FHA streamline refinance: Do you pass ‘the test’?
If you have an FHA mortgage, you might be interested in the Federal Housing Administration's Streamline Refinance Program. The pitch -- easy qualifying guidelines, no appraisal and less documentation -- sounds appealing. But whether this loan makes sense for you might be more complicated to figure out.
For starters, you'll need an existing FHA-insured mortgage on which you've made no payments more than 30 days late in the last 12 months. That's because the program is intended to benefit current responsible FHA borrowers.
"This is one way that FHA can make a real difference to help homeowners who are doing the right thing, paying their bills on time, and want to take advantage of today's low interest rates," said Acting FHA Commissioner Carol Galante in a March 2012 statement." By significantly reducing costs for these borrowers, we can make certain they cut their monthly mortgage burden."
The chief advantage of the FHA streamline refinance is the ability to get a lower mortgage rate without a substantial hike in mortgage insurance premiums, according to Joe Parsons, senior loan officer at PFS Funding, a mortgage broker and banker in Dublin, Calif.
For a new FHA loan today, the upfront and annual (paid monthly) mortgage insurance premiums are 1.75 percent and 1.25 percent of the loan amount, respectively, Parsons explains. The streamline refinance cuts those premiums to .01 percent and .55 percent.
That .01 isn't a typo. Sue Pullen, a senior mortgage advisor at Fairway Independent Mortgage in Tucson, Ariz., says the upfront premium is in fact just $10 for each $100,000 of the loan amount.
Of course, there's a catch. Those reduced premiums are available only to borrowers whose existing FHA loan was endorsed prior to June 1, 2009. Borrowers who obtained an FHA loan after that date have to pay the new higher premiums if they refinance.
The FHA also has imposed a so-called net tangible benefit test, which determines whether refinancing creates a true benefit -- a lower payment or reduced risk of rate rises -- compared with your existing loan. One part of the test measures whether your principal, interest and mortgage insurance drops by at least 5 percent.
Parsons says the higher premiums "dilute" the benefit of refinancing for borrowers who obtained their loan after the cut-off date -- so much so that the new loan might fail the benefit test.
"A lot of people who are sitting at 5 percent rates and could go down to 3.75 or 3.5 percent won't pass that 5 percent test because of the (more costly) mortgage insurance," he says.
Another major benefit is that the FHA streamline refinance doesn't require an appraisal or minimum credit score. That means you can refinance even if you're underwater. But again, there's a catch: most lenders have imposed their own overlays that raise those qualification standards.
Pullen says some lenders demand an appraisal, and Parsons says most require a FICO score of at least 640. Some won't accept a score lower than 680. Others lenders will allow a score as low as 500, though at a higher interest rate.
If your loan is underwater or your credit is impaired, you'll need to shop around for a lender that has flexible requirements. That might be a challenge since lenders tend to have a herd mentality when it comes to overlays.
"When one [lender] comes up with a change in guidelines, they are all real quick to follow," Pullen says.
Other restrictions exist as well. Cash out is limited to $500 (for adjustments at closing), and closing costs cannot be added to your loan amount. You can accept a higher interest rate with no closing costs, but again, that will reduce your savings and might cause your loan to fail the net tangible benefit test.
"Unless you are selecting a [higher] interest rate that gives you a very large rebate, you'll probably have to bring cash to the table. Not a huge amount, but some amount of cash, typically," Parsons says.
Pullen says you'll also have to show signs of financial stability and responsibility, documenting that you're working, you've filed your income tax returns and you have adequate cash reserves to close. Much of the documentation is due to overlays.
The bottom line is that the FHA streamline refinance might enable you to cut your mortgage payment. The FHA says borrowers can save $250 each month, on average. But unless you're in a very strong financial position, it won't be as streamlined as advertised.
Marcie Geffner is an award-winning freelance reporter, writer, editor and blogger whose work has been published by MSNBC, CNBC, Yahoo! Finance, Fox Business, Bankrate.com, AOL Real Estate, ThirdAge.com, Fidelity.com, Inman News and dozens of major U.S. newspapers. She holds a bachelor's degree in English from UCLA and MBA from Pepperdine University. You can follow Marcie on Twitter: @marciegeff.